A German security researcher (code name ‘Stack Smashing’) indicated that he had successfully hacked Apple’s (AAPL) AirTag microcontroller and was able to reprogram the device for the first time.  Once a device is hacked it can be reprogramed to do whatever the hacker decides, such as tracking a device or opening a website application on a smartphone. Despite the security measures that Apple has incorporated in the AirTag, the operating system for such devices is far less sophisticated than iOS or Android, and even Apple indicated that the security of the AirTag is, “the industry’s earliest powerful preventive containment method” and said that AirTag tracking and prevention measures can be further strengthened and improved, which seems a bit less than reassuring.  It is just a matter of time before the same fate awaits Samsung’s recently released ‘SmartTag’, which will undermine the security tag space a bit further.   The video below shows the regular AirTag and one hacked to open a different website.
https://twitter.com/i/status/1391165711448518658
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April panel sales in Taiwan declined for all three primary producers, however that should be looked at against both the strong March that all three saw, and the overall y/y strength that the panel industry has seen.  That said, based on the data from AU Optronics (AUOTY),  Innolux (3481.TT) and Hannstar (6116.TT), large panel production declined, with AUO, seeing shipment area -6.3% m/m (no data for y/y), Innolux saw large panel shipments decline 10.6%.  Hannstar, while it saw a large drop in large panel shipments (-66.7%) is a small player in the large panel space and saw a large jump in March, returning to a more normalized large panel shipment rate in April.  As AUO no longer gives direct large or small panel sales of shipments monthly, we rely on Innolux, who saw a 6.4% decline in small panel shipment, and Hannstar, the leader in small panel of the three, seeing an increase in small panel production of 16.8% m/m.

​As we expect panel prices rose across the board again in April, lower sales indicate an overall slowdown in production after a strong March.  We expect that panel producers pushed out as much product as possible in March before they faced depleted component or materials inventory, which began to limit production further in April.  We note that panel sales remain substantially above historic levels as panel pricing has risen dramatically since the beginning of last year, and that even if sales level continue to fall, y/y comparisons will remain strong at least until August/September when pricing stabilized somewhat.
At least for now, component shortages will cap out unit volume, with overall sales dependent on panel price increases, and AUO pulling down some production for yearly maintenance.  As a result of the shortages, we expect panel prices will continue to rise, offsetting lower panel volume, at least for the next month or two, but the reduced COVID-19 infection and hospitalization rates in North America and a number of other key CE markets could help to relax global stay-at-home demand during the summer months.  While there are a number of wild card countries still facing major COVID-19 outbreaks, the overall global infection and death rate has been almost flat since the beginning of the year.

5nm semiconductor process technology is at a premium and with only two foundries operating at that process level, others, or at least the few that could potentially afford the R&D and equipment cost of such a node are working toward similar production.  That said, both Taiwan Semiconductor (TSM) and Samsung remain the only mass production fabs at 5nm.   While semiconductor roadmaps allow for 4nm or potentially 3nm projects, IBM (IBM) has pushed the limits of Moore’s Law and announced it has developed the world’s first 2nm chip.  Using current terms however to describe transistor dimensions is a bit wonky, as earlier generations considered the two dimensional size of transistors, while today’s terminology describes three dimensional components, which means a 2D comparison of actual transistor size would not show the expected size reduction as structure stacking (3D) adds to component counts and gives an ‘equivalent’ to what would be a 2nm chip.
That said, the transistor density is till the measurement point for process nodes, and while they vary from manufacturer t manufacturer and fab to fab, the table below gives an idea of the density of transistors from various manufacturers at each process node, shown as ‘millions of transistors/mm2, and how they can differ.  IBM is using a 3 stack configuration to achieve higher densities (assumed) while Samsung will introduce a 3 stack cell at the 3nm node, while TSM is expected to wait until the 2nm node.   While IBM uses Samsung’s foundry services for much of its actual chip production, it is likely a jump ball as to who will be first to use the technology, which based on the estimates, would see a performance increase of 45% and an energy consumption reduction of 75% relative to the 7nm process.  

While this sounds very significant for IBM to be the first to develop chips at 2nm, we say develop because IBM will not be a producer of such a device given they sold their manufacturing facilities to Global Foundries (pvt) 7 years ago, with the R&D work being done in their Albany, New York research facility.  That said, they have partnership agreements with all three potential producers and we expect are in discussions as to how the technology implementation will progress, despite the necessity for mass production EUV and other process tools that need to be developed for such a device, so an actual 2nm processor is still a 2024 (or later) project.

Before World War II, the US economy was in a funk, not a Bootsy Collins funk, but an economics one.  The Great Depression had been squeezing the life out of both the US and the global economy since the late 1920’s and even the Roosevelt ‘New Deal’ was only offsetting a bit of the economic misery, with unemployment averaging over 13% for most of the 1930’s.  In 1939, when the war broke out in Europe the ‘New Deal’ had already helped to put the US in ready-mode, shifting production focus from consumer goods to armaments in case the war expanded.  US industries like shipbuilding, which had seen better days during the early 30’s, began stepping up production under the US government’s preparedness programs, and by the time the US entered the war in late 1941, the US economy was in full production mode.  This an example of how the human spirit can rally behind a common enemy and accomplish what would be considered impossible tasks.  The certainly unintentional result of the rise to power of the Axis alliance, stimulated Allied countries to massively shift their focus to defend and protect their way of life, and put aside petty differences to accomplish those goals.

​So what does this have to do with consumer electronics?  The previous US administration faced an uphill battle against what was an almost unknown enemy that was killing citizens and destroying an economy that was the linchpin of the then President’s popularity campaign.  While the real enemy was the COVID-19 virus, Trump’s desire for a rallying cry was ‘China’, and began to institute ever increasing trade restrictions against China’s key electronics players (Huawei (pvt), SMIC (688981.CH), HK Vision (state), etc.) with thin or unfounded claims of potential espionage, or claims of  cooperation with the Chinese military.  While we certainly do not condone China’s issues surrounding personal sovereignty or outright repression, much of the rhetoric was political in nature and used to keep the focus off of the dangers of the pandemic.
While the politics did create a bit of a rallying cry among the US population against China, it did far more in China itself, uniting the country to a common enemy, just as it did for the US during WWII.  China found itself extremely dependent on US technology, particularly semiconductors, and while much of the CE industry had shifted assembly production to China because of its low-cost labor, the country was woefully behind in the development of the key components the US was restricting.  Whether spurred by the Chinese government or by their own enlightened self-interests many Chinese CE companies saw what happened to Huawei and others as an omen as to further restrictions that might affect them more directly, and began a process of re-evaluating their supply chain.  Here is one example:
Yangtze Memory Technologies (600345.CH) is a subsidiary of Tsinghua Unigroup (state) and the Hubei government that produces 3D NAND Flash memory products, both 64 and 128 layer.  The company, which is under 5 years old, sends its top executives each month to Beijing to meet with China’s top economic organizations to update their progress on the process of removing their dependence on US technology and suppliers.  In fact, even when Wuhan was shut down during the pandemic, those executives were the only ones allowed to travel by train to such meetings, and were picked up once a month by the same train that carried YMYC employees to the plant, the only train allowed to stop in Wuhan.
Under the eye of the government YMTC employs over 800 people that work full time to replace the company’s dependence on US suppliers, and not only is reviewing the origin of every component, system, and tool that goes into the production of their products, but does the same for its suppliers, down to each screw, nut, or bolt.  Each supplier is assigned a risk level, and YMTC engineers are sent to suppliers for on-site reviews to verify the origin of every part, with US made parts assigned the highest risk, followed by Japan, and Europe, each with a declining risk level, followed by a ‘corrective action report’ that explains how source diversification can be improved and local alternatives found.
Now YMTC has stationed hundreds of engineers around the production campus who are working 24/7 to change production processes and replace as many non-Chinese tools as possible, raising local percentage targets almost every month.  This represents a major opportunity for local process tool vendors and suppliers, as the government and other state-owned entities are offering massive subsidies and investments to almost anyone building or expanding a semiconductor line, as long as it has a minimum of 30% of its production tools sourced from local vendors.  Such local companies are trying to mimic those US companies that dominate the field in almost every category of semiconductor manufacturing and the government has set a goal of 70% self-sufficiency in semiconductors by 2025, a goal that is far from ensured, given that the 2020 Chinese semiconductor production share was 15.9% according to IC Insights.
However, the point is that the Trump administration’s constant battle over trade with China and its continued push to stifle China’s semiconductor development, has not only lit a fire under the Chinese government, but has become a rallying cry for the Chinese population and even more importantly for Chinese component and tool buyers, who previously saw little reason to purchase from local suppliers.  The earlier buyer thought process was “Why take a chance with a local vendor when I can buy the same tool that Samsung (005930.KS) or Intel (INTC) uses?”  Now that such thoughts are either limited by US sanctions, unavailable due to demand, or are not able to receive government financing, local suppliers are given an opportunity to compete and develop more competitive products.  We doubt that China will meet what is a very aggressive goal for 2025, but they are certainly trying and will continue to do so.  “The wise man doesn’t poke a sleeping bear with a stick”, Stephen King – ‘Wolves of the Calla’

Universal Display (OLED) reported 1Q results of $134m and EPS of $1.08 against consensus estimates of $119.6m and $0.79.  Revenue was down 5.1% q/q but up 19.3% y/y after record 4Q ’20 sales.  Material sales, which are the basis for royalty & license revenue recognition under ASC-606 were $79.8m (59.6% of sales), leading to an OLED material gross margin of 73.7%, up from 60.7% last quarter and 66.9% overall in 2020. 
As UDC is extremely dependent on a relatively small number of large customers, and a both volatile and cyclical industry, investors should expect the company’s performance to be a bit more unpredictable than most, and tending toward ‘unusual’ events coloring quarterly results.  This quarter was different however, with no unusual events, just stronger than expected results, however we expect there will be some concern from the analytical community concerning the company’s guidance, which remained in a range of $530m to $560m after beating 1Q consensus by over $14m, with previous comments implying that 2H would be better than 1H.
The company indicated that due to the uncertainty surrounding semiconductor shortages, they remained comfortable with the previous guidance, which we believe to be the same basic attitude that many of the company’s customers also have, regardless of whether it is stated publicly.  As the impact of the semiconductor shortage filters through the CE supply chain, uncertainty increases and a generally more conservative outlook is warranted.  In the same vein, if OLED panel producers are finding that their production volumes are being limited by component shortages, logic says to slow expansion plans, which is a large part of UDC’s growth story, and while that has a relatively small impact on near-term quarters, it is certainly part of the perceptional value of UDC.  On the flip side, the rapidly rising prices of LCD panels has narrowed the gap between the cost of OLED and LCD panel equivalents, which is a key to the expansion of OLED application penetration which drives demand growth.
Material sales are the key metric we watch concerning UDC, and that breaks down into red and green categories.  Red phosphorescent material is used in every OLED RGB device, which loosely means smartphones, tablets, and notebooks.  While red material sales should track with small and medium panel OLED production, OLED recipe changes and material reduction programs make those comparisons less meaningful, however both overall material sales and red material sales should be increasing on a yearly basis.  Investors seem to have an undue focus on quarterly material sales, so we show overall material sales in Fig. 1, quarterly red emitter sales in Fig. 2, and ‘smoothed’ (6 quarter average) red emitter sales, to remove some of the effects of seasonality and varied quarterly order patterns.
Red emitter sales reached a new record level of $19.1m, exceeding the previous peak of $18.3m in 4Q ’17, with the trend line continuing its upward path, while the ‘smoothed’ red emitter sales trend remains relatively stable over the last two years..  Green emitter material is also used in all small and medium panel RGB displays, at least for the last three years, but is also the basis for large panel OLED TV displays, which use UDC’s yellow/green phosphorescent emitter material and a blue fluorescent emitter produced by others.  This implies that green material sales, which also reached a new high in 1Q ’21, should reflect both small and large panel OLED production, which is shown in Fig. 4 and Fig. 5, and as LG Display (LPL) is the primary supplier of OLED TV displays, it reflects LGD’s continued capacity expansion and increasing unit volume.

We had two concerns heading into UDC’s quarter, the first being the rapid increase in the price of one of UDC’s raw materials, Iridium, which has seen a price increase since the end of last year of 3.8x, rising from ~$1,700/oz. to ~$6,400/oz.  While this is only one component of UDC’s emitter materials, the magnitude of the increase has been concerning, and UDC’s customer material contracts tend to be price/volume oriented, leaving little room for adjustments, which gave us concern about material margins.  This turned out to be unwarranted, as material margins rose from 60.7% in 4Q ’20 and 69.6% in 1Q ’20, to 73.7% in 1Q ’21.  As can be seen in Fig. 7, the company has been building raw material inventory, including iridium, at a trend line rate higher than the sales trend line rate, to insure apple supply. 
Equally as important as available raw material inventory are how UDC’s material margins are affected by the mix between developmental and commercial materials, with developmental margins the lower of the two.  When customers are developing OLED production, testing new materials, or running non-commercial production in new fabs, the materials are classified as developmental.  Once the fab begins to sell commercial product to customers, those materials become commercial and are billed at commercial contract rates, so we make the assumption that some of UDC’s customers, likely Chinese customers, have been purchasing developmental emitter materials and have now begun commercial production, accounting for the higher material margins.  We expect the mix to change each quarter as new fabs or line starts test production mode or moves into commercial fabrication, but it seems that the mix is more of an influence on material margins than the cost of OLED materials, which has remained relatively stable to date.

Our second concern was the impact of the new agreements UDC has signed recently, particularly that with LG Display, who is a primary customer of the company’s yellow/green phosphorescent emitters.  The previous agreement with LGD is based on material sales and a royalty on the factory exit price of the displays.  We expect that this has remained the case, as we believe that Samsung Display (pvt) is the only UDC customer that pays a flat yearly royalty rather than a unit based royalty, but the contract material purchase price or volume discounts for this new extended agreement could have changed, and while we expect such changes would be reflected over time, our concern was whether it would have an impact on green material sales in 1Q or in the company’s overall 2021 guidance.  The only indication of a change relating to the new contract with LG Display is an increase in deferred revenue, which we expect is a result of the overall higher material volumes amortized over the life of the new contract under ASC 606.
We also look at UDC’s customer and regional sales data to better understand material sales trends.  On a regional basis China has been UDC’s biggest growth market, and while China’s share of UDC’s sales did not beat its earlier peak (2Q ’19 – 47%), it came close at 45%.  That said, the same quarterly variability seen in emitter sales applies here, and we look more toward the trend than the quarterly metrics.  Fig. 9 and Fig. 10 break out quarterly regional share but also show regional sales trends, and while Korea’s share of UDC’s revenue continues to decline, the sales trend line remains positive.  As China continues to grow its OLED capacity, both share and sales continue to grow.  Given that the top four UDC customers were 91% of sales this quarter, and consisted of two Korean OLED producers (Samsung Display and LG Display) and two Chinese OLED producers (BOE (200725.CH) and Tianma (000050.CH)), other regions tend to be almost immaterial.
All in, 1Q 2021 was an unusually ‘normal’ quarter for UDC, continuing trends with few unusual deviations, and stronger sales than expected.  We do not disagree with the company’s relatively conservative guidance for the year, which is up 27.1% y/y at the mid-point of guidance, as we are still in the midst of a very fluid CE market that seems to change on a weekly basis.  In a less volatile circumstance, we would have to assume that UDC’s discussions with its customers were specific and pointedly pushed the company toward the possibility that the CE space could look different in 2H than originally expected, but we expect those discussions were more toward “too early to tell” than “changes are coming”.  Despite the perceived meaning of steady guidance after a stronger than expected quarter, it was still a stronger than expected quarter and keeps UDC on track toward long-term growth.
 

​Samsung has not been a major player in the notebook space, and while they did increase sales of their Chromebook series to 2m units last year (4x previous year), and sold 10m Galaxy Tablets, they don’t get close to notebook leader Lenovo (3396.HK), who shipped almost 55m notebooks last year or the #2 Hewlett-Packard (HPE), who shipped over 52m units.  That said, the new notebooks that Samsung recently released, both of which have OLED displays, represent a big step up in Samsung’s notebook offerings, and will be a boon to affiliate Samsung Display (pvt), who produces the displays.
Samsung expects to ship 1m of the new OLED notebooks this year, and while that will be less than 1% of total notebook volume this year, on an area equivalent basis, 1m notebook units (50% each of both sizes) would utilize over 6 times the surface area needed to produce 6.5” smartphones, keeping Samsung Display’s OLED fab at higher utilization rates than would be the case if producing only smartphones.  Of course Samsung needs to generate customers for these notebooks, but we expect that will not be a problem.  That said, if the notebooks sell well, we would expect Samsung to expand such offerings and volumes in 2022, which could move Samsung Display further toward dedicating OLED capacity toward notebook display production or expanding capacity to meet such demand, especially if Samsung’s potential success stimulates outside customer demand for notebook size OLED displays.

Nichia (5393.JP) is a top 5 LED producer, and like all LED producers is constantly looking for new markets that can generate higher than corporate margins.  Mini-LEDs, smaller-than-normal LEDs that are arranged in a matrix, are a way for LED manufacturers to capture a bit more premium than with generic LEDs typically used in LCD backlights, and with the increased number of LED segments (zones) in mini-LED backlights, LCD display producers are able to increase the contrast of LCD displays to compete with OLED.
Nichia has announced its Light Cluster® mini-LED backlight series and the construction of a production facility for mini-LEDs in Tokushima, Japan.  The new facility, which we expect to begin initial production in 3Q this year, will have an initial capacity of 50,000 chips/month, which is expected to increase to 200,000 in a phase 2 expansion and to reach 2m by the end of 2023.  The initial mini-LED backlight modules are 16” and 17.3”, targeting notebooks, with other models (type J) scheduled for monitors and smartphones (type M).  According to the company, initial capacity for the notebook modules has already been booked.
As Nichia is certainly not the 1st LED producer/packager to develop mini-LED products, they focus on differentiating their mini-LED product by making them brighter than other mini-LED systems.  The company says that the system can reach a maximum brightness of 1,000 nits across the screen and 2,000 for local zones, which is about double what the company calls ‘general mini-LED chips’, which allows their system to compare to systems that use ~10x that number of chips to achieve the same brightness and contrast.  
Nichia goes further, touting the reduced thickness of the module (16” is 1.62mm) and a unique optical design that keeps LED diffusion to a minimum, meaning that the light from an ‘on’ LED does not leak into an area where the LED is ‘off’.  Nichia does admit that the Light Cluster chips are more expensive than other mini-LED chips, but the overall cost, due to the lower number of chips needed, is competitive and also requires less power.  Down the road, Nichia expects to be able to reduce power consumption further (↓30%) along with thickness (1.3mm) by the end of 2023.  We note that the metrics and comparisons are from Nichia and are not verified at this time by any 3rd party.  The company predicts mini-LED penetration rates as shown in the table below.  Again, these are company developed forecasts, which typically are a bit on the optimistic side.

Largan Precision (3008.TT) is a large lens module producer based in Taiwan with 9 production facilities and 3 under construction.  While nowhere as large as image sensor producers Sony (SNE) and Samsung Electronics (005930.KS), they are among, if not the largest lens producers globally, which represented ~15% of the global camera market in 2019.  Aside from the basic materials needed to produce lenses, the lens modules incorporate a variety of sensors, application processors, and memory, Largan indicated that such components were the root cause for weak April sales and expects component shortages to push May sales down further.
This was the weakest April for Largan since April 2016, and while it represents only a single data point in the broad CE market, what it tells us is that the effect of the semiconductor and other shortages continues to filter down through the CE ecosystem.  Some are lucky enough to be able to institute price increases, especially raw material and intermediate suppliers, which help to offset the inability to deliver full unit volumes, but contractual obligations and aggressive price competition, keep many from recouping the additional production costs.  Then there are those like Largan, who can offer to pay more for necessary components, but are limited by foundry capacity that is focused on the highest margin products.
We expect that CE producers that are able to shift the increased cost burden down the line have been reticent to pass that full cost to consumers.  Of course there have been some segments of the CE space where price increases have been seen (TV), but they reflect an earlier stage of rising component prices.  The more recent semiconductor capacity issues, such as the Samsung Austin plant shutdown, the fab fires at Renesas (6723.JP), and water issues in Taiwan have exacerbated an already difficult situation that has the potential to limit the growth that is expected of the consumer electronics space this year, outside of any changes from a more normalized lifestyle.  We don’t mean to be harbingers of doom, but the CE space is facing what is a very unique set of circumstances and risk to the industry continues to rise, even as demand remains relatively solid, which makes every data point more valuable and increases the necessity to focus on all levels of production in the industry.

​While it is still early in the mini-LED production game, Apple’s (AAPL) recent announcement of a 12.9” iPad Pro using the technology is a major plus for the mini-LED supply chain, but how does this change change customer perceptions?  Aside from the technical improvements over Apple’s previous mini-LED foray, the XDR monitor, Apple seems to have passed on the increased cost of the mini-LED display directly to customers, but we expect the increase in the price of this year’s iPad Pro of $100 will be minor when compared to the improvement in performance and the cache of a new technology.
According to recent evaluations, the cost of the mini-LED backlight for the iPad Pro is ~$85 greater than the cost of an edge-lit backlight of the same size, and we expect the net cost of other improvements was likely the remainder of the $100 price increase this year.  While a 10% price hike is enough to be noticed, the value proposition for any avid iPad Pro fan is a no-brainer based on the fact that the mini-LED display in the new iPad Pro is more precise, and has higher contrast characteristics than the mini-LED XDR monitor that is associated with the 31.5” iMAC.
As we have previously noted, the iPad Pro mini-LED display is based on almost 2,600 dimming zones, each with 4 mini-LEDs, giving the system 5 times the control that the XDR display previously had.  While actual performance still depends on the system’s processor performance and the algorithms used to parse each frame segment’s characteristics, we find it hard to imagine that Apple did not anticipate where the software would need to be using the higher LED zone count.  Given that such video processors have to scan roughly 12 bits of information for every 8.29m pixels for every frame of a video signal, 60 times each second, translate that into 2,600 LED locations, and then set the LED level for each zone, and send that to the system’s timing controller, it is understandable that those designing mini-LED backlights reckon with the complexity and processing power needed each time the number of zones is increased.  Apple seems to be a bit ahead of the game so far.

​While Ireland is famous for one-named singers (Bono, Enya), soda bread, an obsession with Rugby, and dare we say Guinness, Ireland has another, lesser known talent, litigation.  The country has been building a base of NPE (non-producing entities) that have been buying IP assets from a number of companies in the CE space.  Many of these entities are associated with Magnetar Capital (pvt), an Illinois-based hedge fund with over $12b in assets that bills itself as an alternative manager.  The NPE’s acquire IP assets from companies that are exiting businesses or are willing to share license streams or litigation outcomes. 
We have mentioned a few of the filings that have to do with CE products involving IP from Hewlett-Packard (HPE), Mitsubishi (8058.JP), Microchip (MCHP) and others, that have been or are being litigated in US courts, usually in the Western District Court of Texas.  The latest, filed at the end of last month, was against Samsung Electronics (005930.KS), who was accused of infringing on three patents that underlie wireless charging, all the way back to the Galaxy S6 Edge, released in April 2015 (since discontinued), that Scramoge Technlogy (pvt), an Irish NPE run by Magnetar, who purchased 123 patents from LG Innotek (011070.KS) for $4.4m last February as part of the company’s exit from the wireless charging business.  Investors might remember Solus OLED (pvt), another NPE operated by Magnetar that has been in court with Samsung and LG Display since 2019 over OLED IP.  While these entities are obviously positioned to litigate against the CE industry’s largest entities, the one thing that is ensured is that in the long run, consumers pay for the cost of the litigation and lawyers get new BMW’s every year.